Institute Of International Finance Wins Two Nobel Prizes
By Simon Johnson
In a surprise announcement early this morning, the 2011 Nobel Peace Prize and the Nobel Prize for Economics (strictly speaking: “The Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel”) were simultaneously awarded to the Institute of International Finance (IIF), “the world’s only global association of financial institutions”.
This is the first time the Economics Prize has been awarded to an organization – although the Peace Prize has been received by various institutions (including the Intergovernmental Panel on Climate Change, the International Atomic Energy Agency, and Lord Boyd Orr – in part for his work with the Food and Agriculture Organization).
In its citation for the economics prize, the Royal Swedish Academy of Sciences said the IIF won for its work on capital requirements for banks, which proved that requiring banks to fund themselves with positive equity – and therefore have any kind of buffer against insolvency – would limit credit, be very bad for economic growth, and generally make all consumers less happy. Based on this single remarkable paper, the IIF earned the prize for its: Read the rest of this entry »
Lessons from the Oracle
By James Kwak
[I wrote this post a month ago but just realized I never clicked "Publish." It's about a book that was published more than two years ago, though, so it shouldn't have gotten any more stale.]
I recently finished reading Snowball, Alice Schroeder’s 2008 biography of Warren Buffett. It wasn’t a bad read, although at over eight hundred pages it was on the long side and began to seem repetitive; the impression I got was that Buffett had the same kinds of relationships with his family and friends for a long time, and not much changed over the decades.
The big question about Buffett for people like me — people who invest in low-cost index funds, that is — is whether he is smart or lucky. After all, since Burton Malkiel’s Random Walk Down Wall Street, the main argument against stock-picking skill has been that in a coin-flipping tournament featuring thousands of players (and with survivorship bias), someone is bound to win time after time after time.
The answer, at least the one from the book, is that Buffett is smart. And that shouldn’t be too surprising. I recently read a pile of papers about active mutual fund management, mainly from the Journal of Finance, and I’d say that while there’s no consensus per se, the general trend has been that there are some mutual fund managers who can beat the indexes and can more than cover their costs.* There aren’t many of them, they are outnumbered by the ones who do worse than the indexes, and they are probably hard for you and me to find, but they exist. And I say this despite the fact I didn’t want it to be true.
Comment Unthreading
By James Kwak
I’m sorry to those who liked it, but I decided to turn off threaded comments. There were just too many examples of people “responding” to the first comment with something that, while perhaps related to the original post, was not related to that comment, apparently to get their input up to the top of the comment list. I decided this was a simpler solution than trying to block those people.
Update: Many people use the “@” symbol to show that they are replying to a previous comment. So if you want to reply specifically to a comment by “agreenspan,” for example, put “@agreenspan:” at the beginning of your comment.
What Is Spencer Bachus’s Game?
By Simon Johnson
Representative Spencer Bachus, Republican chair of the House Financial Services Committee, famously remarked in December,
“in Washington, the view is that the banks are to be regulated, and my view is that Washington and the regulators are there to serve the banks.”
With regard to the Consumer Financial Protection Bureau (CFPB), this apparently now implies that Mr. Bachus will use any means possible to change the topic away from substance – how banks treat their customers – to imagined procedural issues.
Specifically, Mr. Bachus is wrongly accusing Elizabeth Warren of misleading Congress with regard to the role of the CFPB in the negotiations over how to settle allegations that mortgage foreclosure practices have been abusive (see also this news coverage). Read the rest of this entry »
Not with a Bang
By James Kwak
In the Times, Neil Barofsky, Special Inspector General for TARP, performed the admirable feat of fitting a clear, comprehensive, sober critique of how TARP was implemented and what its long-term impact will be in fewer than 1,000 words. It’s a perspective I mainly agree with,* and it highlights the different priorities that the administration put on aid to large banks and aid to homeowners, even though both were goals of the bill.
Back in late 2008 and early 2009, there was a lot of talk about how a true solution for the problems of the banking system would require a solution for the problems of homeowners, since the banks’ losses were largely the result of mortgage defaults. One of the major technical achievements of the administration was showing that it was possible to stabilize the financial system and restore the banks to short-term profitability without doing much for homeowners. As Barofsky says, and as the Times reports in yet another article today, the administration’s programs to help homeowners obtain loan modifications had little impact on the behavior of the banks that service mortgages and foreclosures continue unabated. Real housing prices have fallen below the previous lows of 2009 and now look likely to overcorrect on the downside.**
Housing modifications are admittedly more difficult than bailing out banks. It’s administratively easier to write a few $25 billion checks and create unlimited low-interest credit lines for a few of the Federal Reserve’s existing customers than to intervene in millions of mortgages. But the financial crisis was a time of bold action on other fronts. Treasury and the Federal Reserve were willing to push the limits of the law, for example in J.P. Morgan’s takeover of Bear Stearns. (See the chapter in Steven Davidoff’s book Gods at War for the details.) Henry Paulson threatened to declare the nation’s largest banks insolvent if they didn’t agree to sell preferred stock to the government. By contrast, as law professor Katherine Porter says in the Times article, “The banks were so despised, and TARP was so front and center, you could have actually done something. In the midst of real boldness in bailing out the banks, we get this timid, soft, voluntary conditional program.”
The lesson we learned learned is that homeowners were only a priority insofar as their health mattered to the banks’ health. When those two things became unmoored, the administration was willing to declare victory.
* The main thing I don’t agree with is Barofsky’s implied criticism of the Bush administration for using TARP money to buy preferred stock from banks rather than buying mortgage-backed securities directly. While I have often criticized various aspects of the preferred stock purchases, I think it was a more direct way to stop the panic of September-October 2008, and at that point a program to purchase MBS would probably have been an even more blatant transfer to the banks.
** I’m all for prices falling from bubble levels, but the policy goal should have been preventing them from falling through the long-term trend.
Convenient Arguments
By James Kwak
Here’s my solution to our national debt. We have a one-time, 100 percent tax on all wealth (net worth) of all United States residents, with a $10 million per-person exemption. With household wealth at around $60 trillion, that should be plenty to pay off the accumulated debt and shore up Social Security and Medicare for the next century.* The government promises never to do it again. Since we only care about future behavior, a one-time wealth tax should have no impact on people’s incentives to work, and hence no distorting effect on the economy.
Don’t like that idea? How about this one. The Federal Reserve creates $20 trillion in money but, instead of crediting it to large banks’ accounts at the Fed, it credits it to Treasury’s account. Again, no more debt. Again, the Fed promises never to do it again.
Dividend Lost
By Simon Johnson
Four types of people were directly affected by the Federal Reserve’s decision at the end of last week to allow major banks to increase their dividends and to buy back shares. Three of these groups – bankers, bank shareholders, and government officials – were somewhere between happy and delighted. The four group, US taxpayers, should be much more worried (see also this cautionary letter to the Financial Times by top finance academics).
The bankers’ reaction is obvious. They are officially released from the financial hospital ward that was set up for them in 2008. No matter that this was a very comfortable place with few conditions relative to any other bailout in recent US or world history – there were still restrictions on what banks could do and, naturally, bank executives chafed at these constraints.
In particular, banks were required to build up the equity in their business – insolvency is avoided, after all, while there is positive equity in a business. When shareholder equity is exhausted, creditors face losses. Read the rest of this entry »
Incentives Don’t Work
By James Kwak
Driving home from school today, I listened to a Fresh Air interview from two months ago with Atul Gawande, by now perhaps the most famous doctor in the policy intelligentsia. The interview was based on a New Yorker article discussing how some doctors and even some health care payor organizations are trying to reduce health care costs for the most expensive people while improving outcomes. In Camden, New Jersey, one doctor found that one percent of people generate thirty percent of health care costs.
One refrain you heard incessantly during the health care reform debate was that we have high health care costs because of overconsumption and we have overconsumption because people don’t bear a high enough share of their marginal health care costs, so the solution is to increase copays and deductibles. This is what Economics 101 would tell you: people respond to incentives. But Gawande discussed one large company that tried this year after year, but only saw their costs going up. The problem was that while most members responded to the higher copays and kept their costs more or less steady, the 5 percent of members who generated 60 percent of the costs behaved differently. Or, rather, they also reduced consumption (of doctor’s visits and prescription medications), but as a result they often had catastrophic outcomes. These were people with heart disease on cholesterol-lowering medications, and when they went off their medications they ended up in the hospital with heart attacks and then with congestive heart failure.
Two Cakes
By James Kwak
Eric Dash of DealBook reports on the latest stress tests conducted by the Federal Reserve, which apparently went swimmingly, at least for some of the healthier banks. I have no independent basis on which to assess the accuracy of those test results, so I won’t.
What I did notice is that JPMorgan Chase and Wells Fargo are using the green light from the Fed to start buying back stock: $15 billion for JPMorgan, 200 million shares (about $6 billion) for Wells. Does something seem wrong with this picture to you? Me, too.
Important Matters
By James Kwak
I know you can’t wait to hear my thoughts on the NCAA basketball tournament, but I’ve put them on my personal blog. I used to have a personal blog, and one my friends said he preferred it to The Baseline Scenario, so I started a new one recently for things that don’t have to do with economics, politics, business, the law, or the like. I post to it occasionally — just whenever I have something I want to say that doesn’t feel like a Baseline Scenario post. You can visit it or not, as you choose.
Who’s Afraid Of Elizabeth Warren?
By Simon Johnson
The next big political battle in Washington – after the budget debate is declared “over” – will likely feature the Consumer Financial Protection Bureau, in particular the fight to determine whether Elizabeth Warren can become as the agency’s first official head.
But will this fight feature a classic left vs. right set-piece confirmation showdown in the Senate? Or it will it be resolved with cloaks and daggers closer to the White House – with Treasury Secretary Tim Geithner managing to prevent Professor Warren’s nomination?
There is much to commend the left vs. right scenario. The Republicans, after all, want to argue that regulation is excessive in general and regulation of financial products is somewhere between unnecessary and dangerous for economic growth in particular. This theme came up during the Dodd-Frank legislative debate on financial reform last year but it was largely lost in the larger conversation.
Now Spencer Bachus, Republican chair of the House Financial Services Committee, has Elizabeth Warren firmly in his sights – with the mortgage settlement negotiations as the flashpoint. Read the rest of this entry »
Not Clear on the Concept
By James Kwak
From Congressman Spencer Bachus’s Media Center (these are the actual titles of four consecutive press releases):
- CONGRESSMAN BACHUS ANNOUNCES MAJOR GRANTS FOR TWO FIRE DEPARTMENTS IN SIXTH DISTRICT
- BACHUS: THE AMERICAN PEOPLE HAVE TOLD US TO CUT SPENDING AND DEBT
- BACHUS STATEMENT ON STOPPING THE TAX INCREASES, OPPOSING PORK-BARREL SPENDING
- CONGRESSMAN BACHUS ANNOUNCES $294,000 IN FIRE GRANTS FOR JEMISON VOLUNTEER FIRE DEPARTMENT
Enough
By James Kwak
A friend passed on this article in The Motley Fool by Morgan Housel. It begins this way:
“Enough.
“That’s the title of Vanguard founder John Bogle’s fantastic book about measuring what counts in life.
“The title, as Bogle explains, comes from a conversation between Kurt Vonnegut and novelist Joseph Heller, who are enjoying a party hosted by a billionaire hedge fund manager. Vonnegut points out that their wealthy host had made more money in one day than Heller ever made from his novelCatch-22. Heller responds: ‘Yes, but I have something he will never have: enough.’”
The rest of the article discusses the cases of Rajat Gupta and Bernie Madoff, the former accused (but not criminally) and the latter convicted of illegal activity done after they had already been enormously successful, professionally and financially.
Housel asks, why do people push on — legally or illegally — when they have more of everything than anyone could possibly need? He summarizes the happiness research as follows:
“Money isn’t the key to happiness. What really gives people meaning and happiness is a combination of four things: Control over what they’re doing, progress in what they’re pursuing, being connected with others, and being part of something they enjoy that’s bigger than themselves.”
How Dumb?
By James Kwak
In his latest column, “Dumbing Deficits Down,” Paul Krugman has harsh words for Republican nonsense about the budget deficit:
Today’s Republicans just aren’t into rationality. They claim to care deeply about deficits — but they’ve spent the past two years putting cynical, demagogic attacks on any attempt to actually deal with long-run deficits at the heart of their campaign strategy.
But he’s only slightly less harsh toward President Obama:
The president and his aides know that the G.O.P. approach to the budget is wrongheaded and destructive. But they’ve stopped making the case for an alternative approach; instead, they’ve positioned themselves as know-nothings lite, accepting the notion that spending must be slashed immediately — just not as much as Republicans want. . . .
the White House is aiding and abetting the dumbing down of our deficit debate.
In this context, this concluding passage from the book I just read seems appropriate:
U.S. political leaders now seem determined to follow Nero’s reputed example when setting budget policy. They dicker with trivial deficit reduction packages, and then on a regular basis stoke the fire by passing much larger tax cuts, while the long-term budget picture keeps getting worse. They know what is happening, as do the voters.
Orientation
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Written by James Kwak
June 7, 2010 at 9:11 am
Posted in Commentary